Phar-Mor Inc Case Study

Phar-Mor Inc. is one of the top ten deep discount drug store chains in the United States. The company rose to national prominence when, just seven years after it was founded, it catapulted to leadership of the deep discount drug retail segment. At its most prosperous, the chain boasted more than 300 locations in 34 states. In 1992, however, one of the largest corporate frauds in American history was perpetrated against Phar-Mor. As a result, the chain declared bankruptcy, cut its store locations by more than half, and was only beginning to show signs of emerging from the crisis in early 1995.

Phar-Mor came into existence as an affiliate of Pittsburgh-based Giant Eagle, Inc., a $1 billion, family-owned grocery chain with 50 locations. In 1981 Giant Eagle acquired Tamarkin Co., a privately owned grocery chain and distribution firm (later renamed Tamco Distributors Co.). Within a year, Giant Eagle heir David S. Shapira and former Tamarkin vice-president Michael J. "Mickey" Monus established Phar-Mor, Inc., an entry into the fast-growing deep discount drug segment.

The two businessmen seemed to confirm the adage that "opposites attract." The charismatic Monus developed a reputation for flamboyancy in the otherwise stuffy drug store industry--he reportedly traveled with an entourage by white limousine, for example. Shapira, on the other hand, was described as "a member of Pittsburgh's establishment" in an article appearing in Business Week in August 1992. Monus served as president of the new venture and Shapira as chief executive officer. Giant Eagle owned 50 percent of Phar-Mor, and real estate mogul Edward J. Debartolo, Sr., reportedly held a substantial equity interest in the new enterprise.

The deep discount segment of the drug store industry traces its history back to close-out shops that appeared during the Great Depression. The popularity of the concept waned when prosperity returned, but saw a resurgence during the recession of the 1970s. Consumers wanted quality goods at low prices, and they were willing to forgo ambiance, convenience, and selection to get them. Discount druggists kept overhead low and used specialized purchasing techniques to achieve economies that they then passed on to their bargain-hungry customers. Discounters rented older--and usually cheaper--retail spaces than their traditional drug store counterparts. They saved advertising dollars by making their own signs and product displays by hand. Most of these operations were led by independent owner/managers.

Purchasing techniques were key to the concept. In the late 1970s and early 1980s, deep discounters obtained merchandise strictly "on deal" from manufacturers, often settling for limited quantities of a product in exchange for discounts of 12 to 20 percent off wholesale prices. Buying stock "on deal" meant that these retailers carried a limited, often erratic, merchandise mix, but customers did not seem to mind, since deep discounters passed savings of 25 to 40 percent off suggested retail prices on to their customers. The retailers made up for their own lean margins with high volume, often achieving six to seven times more sales per square foot than their conventional counterparts. By the early 1980s, the competitive pressures brought by deep discounters, warehouse clubs, and other off-price concepts had begun to capture the attention of traditional retailers, including Giant Eagle, which launched Phar-Mor in 1982.

Phar-Mor used many of the techniques established by deep discounters, and additionally adopted a strategy that had helped make Wal-Mart a national phenomenon: "power buying," or placing the largest possible orders for merchandise in order to secure the best possible terms. Phar-Mor earned a reputation for hiring shrewd purchasing agents who were proficient at negotiating the best wholesale deals from vendors. Their high-pressure tactics sometimes strained supplier relations as well.

Competition intensified dramatically during the mid-1980s, as many mass marketers and independent entrepreneurs joined the deep discount segment. From 1985 to 1990, the overall number of deep discount drug stores in the United States and Canada more than doubled, from 313 to 700. Although a relative latecomer to the segment, Phar-Mor more than kept pace with the industry's rate of growth. By 1987 the chain had nearly 70 stores, and a year later it opened its 100th store. In 1990 Phar-Mor surpassed the 200-store mark, becoming the leader in the industry. As it grew, its merchandise mix expanded from prescription and over-the-counter drugs and health and beauty aids to include more general merchandise, including office equipment, sporting goods, apparel, videos, music, and frozen foods.

Writing for Discount Store News, analyst Arthur Markowitz noted the "symbiotic relationship" between power buying and rapid growth. In 1991, he asserted that "Phar-Mor needs an expanding base of stores to sell the huge quantities of merchandise it purchases. At the same time, the increasing number of stores has generated the growing need for vast amounts of goods purchased at the lowest possible cost." The company won financial support for this strategy from Corporate Partners, the investment arm of Lazard Freres & Co., when it sold the firm a 17 percent stake for $200 million in 1991.

In July 1992, chain President Michael Monus hosted what Tony Lisanti of Discount Store News called "an uncharacteristically high profile grand opening" of the 300th Phar-Mor store. While there, Monus announced a corporate goal of 340 store openings over the next five years. Even retail giant Sam Walton admitted that, of all his competitors, he feared the Phar-Mor juggernaut the most. But before the month had ended, the fears harbored by many of Phar-Mor's retail rivals evaporated in scandal.

To the shock of most observers and to the dismay of Phar-Mor creditors, investors, and suppliers, on July 31, CEO David Shapira accused Monus, Chief Financial Officer Patrick B. Finn, and two other high-ranking